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Investors Are Late to the Party Again

Look who has rediscovered equities.

One of the overriding investment themes of 2012 was widespread investor skepticism. Despite a stock market that had doubled since its lows in 2009 and an economy that has been staggering slowly forward, investors voted with their feet, yanking billions of dollars out of stock funds and redirecting that money into low-yielding fixed income securities. But it looks like the tide may finally be turning for equities.

A day late, a dollar shortAccording to a new Bloomberg survey, investors around the world are more bullish on stocks today than they have been in about three and a half years. Nearly two-thirds of survey respondents said they planned to raise their equity holdings in the next six months. Fifty-three percent of those surveyed said they thought stocks will offer the highest return in the next year, a 17-percentage-point gain from the last poll in November. And fund data shows that investors are acting on their newfound confidence. In the week ending Jan. 16 of this year, investors stuffed nearly $3.8 billion into stock mutual funds after pumping in another $7.5 billion in the prior week, according to Thomson Reuters' Lipper service. It looks like investors are rediscovering their taste for stocks after a years-long fast.

But while it's good to see investors getting back in the stock swing of things, it's hard not to shake your head at the timing of it all. The S&P 500 Index just hit a new five-year high and this is the moment investors choose to get back in the game? Where were these folks four years ago, when valuations were much lower and more attractive? At this point, if you're just moving back into equities or just now increasing your allocations, you've already missed the biggest gains we're going to see in this recovery.

All the wrong movesUnfortunately for everyone involved, when investors start to get bullish on stocks, that's usually a bearish indicator for the market. Because investors en masse are horrible market timers and usually make moves at exactly the wrong time, this sudden shift in sentiment should be a wakeup call. But while investors may need to be a bit more cautious moving forward, I still think stocks will end up beating bonds this year and over the next few years. Equity investors should absolutely moderate their expectations for future returns -- we're probably not going to see the market double again anytime soon. But there are still some decent opportunities out there in today's market.

That means that despite this yellow flag, stocks are still the place to be in 2013. More specifically, large-cap equities are more reasonably valued than smaller names and are in a better position to outperform as the current business cycle matures. To beef up your large-cap exposure, consider a low-fee exchange-traded fund like Vanguard Large-Cap ETF(NYSEMKT:VV) or Schwab U.S. Large-Cap ETF(NYSEMKT:SCHX). To really home in on megacap names, which should be in the best position to survive and thrive if growth does slow, a fund like Vanguard Mega-Cap 300 Index ETF(NYSEMKT:MGC) is a solid option.

Actively managed fund lovers may want to think about picking up a fund such as Dodge & Cox Stock (DODGX). This team-managed portfolio seeks out stocks that are temporarily undervalued by the market but that have excellent long-term growth prospects. Large-cap financial stocks account for 22.3% of fund assets and include picks like Wells Fargo(NYSE:WFC), which the team likes for its strong consumer and small-business banking franchises, growing market share, and attractive valuation relative to its peers. Another top holding, Capital One Financial(NYSE:COF), is favored for its own strong franchise, strong credit card business market share, and talented management team. Dodge & Cox Stock tends to take a contrarian stand, so it can diverge from the rest of the market at times. But this large-cap gem lands in the top 1% of all large-value funds over the most recent 15-year period with an 8% annualized return. This fund is an excellent choice for investors who want to capitalize on the next phase of the current bull market.

It may be too late to profit from the market run-up of the past four years, but investors can take away an important lesson for the future. The next time the stock market encounters some turbulence and takes a serious plunge -- and it will assuredly happen -- don't head for the hills. Instead, stick to your long-term investment plan and hold tight. That way, the next time around, you won't be one of the ones trying to get back into the market after all the easy money has already been made.

Amanda Kish is the Fool's resident fund advisor for the Rule Your Retirement investment newsletter. She has no position in any stocks or funds mentioned. The Motley Fool recommends Wells Fargo. The Motley Fool owns shares of Wells Fargo. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.